Preconditions for a Successful Implementation of Supervisors' Prompt Corrective Action: Is There a Case for a Banking Standard in the European Union?

Over the past years, several countries around the world have adopted a system of prudential prompt corrective action (PCA). The European Union countries are being encouraged to adopt PCA by policy analysts who explicitly call for its adoption. To date, most of the discussion on PCA has focused on its overall merits. This paper focuses on the preconditions needed for the adoption of an effective PCA. These preconditions include conceptual elements such as a prudential supervisory focus on minimizing deposit insurance losses and mandating supervisory action as capital declines. These preconditions also include institutional aspects such as greater supervisory independence and authority, more effective resolution mechanisms, and better methods of measuring capital.

JEL classification: G28, K23, F20

Key words: bank, supervision, European Union, PCA

The authors thank George Benston, Robert Eisenbeis, Gillian Garcia, Eva Hüpkes, and David Mayes for helpful comments on an earlier draft as well as C.A.E. Goodhart and Rosa M. Lastra. They also thank the participants in the seminar held at the LSE Financial Markets Group in London in March 2006. The views expressed here are the authors’ and not necessarily those of the Banco de España, the Federal Reserve Bank of Atlanta, or the Federal Reserve System. Any remaining errors are the authors’ responsibility.